Return On Assets

What Is Return On Assets?

Return on assets (ROA), a type of Return on Investment (ROI) is a metric that measures how well a firm generates profits from its total assets. ROA informs a director, shareholder, or analyst about how effective a company’s management is in generating revenues from its assets.

Deeper Definition

The worth of a company’s assets is compared to the profits it generates over a certain period.

If it seems complicated, consider how ROA would operate at a fictional widget company. The corporation has several production factories as well as the equipment and technology required to produce widgets. It also keeps a supply of raw materials for making widgets, as well as an inventory of unsold widgets. There are the one-of-a-kind widget designs it’s come up with, as well as the cash and cash equivalents it maintains on hand for commercial purposes. These are the assets of the widget company as a whole.

Its earnings are the money it makes from selling widgets after subtracting the costs of materials and labor. Both are used to determine its ROA

The return on assets is crucial to remember since it is how management and outside experts judge how successfully a firm is employing its financial resources. Other measurements of firm profitability, such as return on investment (ROI) and return on equity (ROE), are strongly connected to ROA.

The formula of ROA is Total income/Average Assets(or End of period assets). 

Where,

Net income is the same as net earnings or net income over the course of a year (annual period). Average assets are ending assets minus beginning assets divided by two.

The higher the ROA, the more efficient the asset, whereas the lower the ROA, the less efficient the asset.

Return On Assets Example

Let’s look at an example of how to calculate ROA using the formula above in the form of a question.

Q: What is the return on assets for a company that earns $1 million in current operations and has $2 million in assets on the balance sheet?

A: Because $1 million divided by $2 million equals 0.5, the company’s ROA is 50%. The corporation earns 50 cents in net income per each $1 of assets it invests in.